Bank Executives' Pay Evolves After Crisis, But Problems Remain

Tom Burroughes

21 August 2012

Top executives’ pay has been a heated issue in recent years but there are signs that firms such as banks are moving to fix their compensation policies, although problems remain.

The recent high-profile resignation of Barclays’ chief executive Bob Diamond over the LIBOR scandal, coupled with problems at a host of other banks that have seen share prices take a hit, reignited debate on whether the hefty compensation packages awarded to CEOs and other top managers make business sense.

While there is still a long way to go, there are clear signs of improvement with shareholders wielding more power and managers will increasingly have to prove high performance for longer periods to justify additional bonuses, says Robert Talbut, chief investment officer at Royal London Asset Management and advisor to the High Pay Centre, an organisation focusing on such issues. He became involved with the HPC when its precursor, the High Pay Commission, sought his views over a year ago when it examined issues surrounding executive pay; its report is seen by commentators as having played a key role in framing legislation currently planned by the UK government.

“Investors are acutely aware of not wanting to be seen as supporting rewards for failure. Views around exit payments have transformed over the past few years so it is much more difficult for a company to contemplate shuffling someone off with a significant payment and expect that shareholders will not become too agitated,” Talbut told this publication in an interview.

“Companies now understand that the starting point should be that they only pay what is necessary to pay; there should not be other types of arrangements put in place,” Talbut said.

Executives are typically measured for three years in deciding to award a bonus or some other bump in pay; that period will increasingly widen to five years, a move already taken by HSBC and being considered by some other banks, Talbut said. “That was seen as quite ground-breaking – people are now encouraging Barclays to introduce something similar. It is likely to be increasingly common in all companies and would be supported by many institutions,” he said.

To explain how explosive this issue still is, recent data from Manifest, the proxy voting agency, showed that Barclays’ Diamond had been the highest paid executive of any of the firms in the FTSE 100 Index of blue-chip stocks. Diamond had a total realisable remuneration package of £20.97 million ($32.97 million). In second place was Sir Martin Sorrell, CEO of advertising conglomerate WPP, at £11.622, followed by David Brennan, CEO of AstraZeneca, the drug maker, at £11.318 million (source: Executive Compensation Briefing, August 2012).

But absolute numbers only tell part of the story. The direction of travel is what counts. And the data is also unlikely to make bashers of “fat cats” happy: latest data shows total CEO remuneration increases (covering salary, bonuses and other contributions) rising by 10 per cent over the past year. Pay, in other words, is outpacing the performance of the UK stock market and wider economy. Over the last 14 years, total remuneration has risen much faster than total shareholder returns (source: ECB, August 2012). Such a gap explains some, if not all, investor concerns.

There is a related problem in that government policy appears to be contradictory. On the one side, the Financial Services Authority, the UK regulator, wants to encourage deferred bonuses to avoid the short-termist bank pay policy it reckons fuelled the financial crisis; on the other side, the government has cracked down on employment benefit trusts (EBTs) which typically defer remuneration to mitigate tax.

Cutbacks

Some firms have changed course. Explaining its 2011 compensation stance, Credit Suisse, Switzerland’s second biggest bank, slashed variable compensation to staff by 41 per cent from a year before; aggregate variable compensation to members of the executive board slid by 57 per cent; the CEO took an even bigger fall, down 69 per cent.

At Barclays, as explained in its 2011 annual report, the UK-listed bank said it had increased the total deferred bonus element of pay packages; the total bonus pool fell by 25 per cent and total incentive awards fell 26 per cent from the previous year. Annual incentives for the executive directors and the eight highest paid senior executive officers were slashed by 48 per cent versus 2010 on a like-for-like basis.

Sanctity of contract

But while there is an inevitable furore about whether under-performing or resigned bosses should pay back some if not all of their compensation, RLAM’s Talbut was at pains to oppose attempts to rip up employment contracts.

“Although the numbers involved can still seem to be relatively large, we are not in favour of companies tearing up individuals’ contracts in pursuit of not giving them what they are contractually entitled to…We believe security of employment contracts is a very important principle,” he said.

Talbut is wary of the argument that in a globalised marketplace, the bidding wars for top CEOs at banks is creating such high levels of pay.

“The degree to which we are playing in a fully globalised labour market is grossly exaggerated. There are individual instances where global issues may apply but using this to justify an overall approach to pay is a distraction,” he said.

So what will bankers’ pay look like in five years from now?

“We will be talking about a situation that has a greater alignment between the true economic cycle over which we can judge performance of management, the risks taken and more appropriate remuneration arrangements. Performance periods will be longer, the metrics used to judge performance will be better and the degree to which claw-back can be allowed will be longer,” Talbut added.

Even so, with any reforms that are enacted, the issue of bosses’ pay will remain a staple feature of the financial media for quite some time to come.